New York Markets After Hours

Easy money over for yen bears

Japanese currency’s snapback marks end of one-way bet

By

WilliamL. Watts

FRANKFURT (MarketWatch) — With Japan’s new prime minister determined to force the nation’s central bank to root out deflation, the yen likely has much further to fall, but the days of easy money to be made shorting the currency may have come to an end.

To be sure, the yen has offered some easy, big profits at least since last fall. The currency is down nearly 13% versus the dollar
USDJPY, +0.48%
over the last three months, and has plunged more than 16% versus the euro
EURJPY, -0.03%
over the same period.

The yen, however, snapped back sharply on Tuesday after the country’s economics minister warned of the consequences of an “overly weak” currency. That prompted strategists and economists to ponder how much further the yen can fall.

“In contrast to the wonderfully consistent trend weakness in the yen over recent months, we have now entered a rather different phase where the currency is more volatile. As a result, the trading approach needs to be modified,” said Michael Derks, chief strategist at FxPro in London.

The rebound came after Economy Minister Akira Amari told a news conference that an overly weak yen wasn’t good for Japan’s economy.

The market’s response underlines that yen shorts are “acutely sensitive to any suggestion that the government and/or the [Bank of Japan] will prevent the yen from weakening any further,” Derks wrote.

“That said, Amari’s remarks could be construed as being of a more general nature—he merely warned that excessive yen weakness could lift inflation, without claiming that the decline in the Japanese currency seen recently was consistent with this characterization,” he said.

Regardless, the episode shows that traders will need to rely on quicker reflexes and a “less dogmatic” approach, he wrote in a note to clients.

The currency began to accelerate its slide in October, as then-challenger Shinzo Abe vowed to force the Bank of Japan to adopt a higher inflation target and take other steps to reverse deflation and otherwise jump-start the country’s long-moribund economy.

Abe’s Liberal Democratic Party easily swept back into power in December. As prime minister, Abe has stuck to his guns. The Bank of Japan is expected to boost its inflation target to 2% from its current 1% as soon as next week. And Abe appears eager to replace the bank’s current governor, Masaaki Shirakawa, with someone more sympathetic to his own aggressive, anti-deflation stance.

Abe’s also launched fresh fiscal stimulus measures.

A combination of loose monetary policy and loose fiscal policy makes a weaker yen a no-brainer. But the question, as always, is how much is factored in? And have yen bears gone too far, too fast?

Jim O’Neill, chairman of Goldman Sachs Asset Management, told Bloomberg Television on Tuesday that the Bank of Japan must show it will take a new, 2% inflation target seriously when policy makers meet next week in order for the yen to weaken further.

“We traveled a long way since late November. There are some classic indicators suggesting [the yen] is a little bit oversold,” O’Neill said.

There are also fundamental reasons to question how fast and far the yen can continue to fall in the near term.

Jane Foley, senior currency strategist at Rabobank International in London, warned that the government’s pro-growth policies, if viewed as likely to be successful, could come back to support the yen.

At the same time, if the government manages to stamp out speculation that Japan is on track to lose its current account deficit sooner rather than later, the yen could also find support, she wrote in a recent research note.

“Both these factors suggest that the yen weakness is not a one-way bet. That said, it is clear that few investors are prepared to stand in the way of the trend at the moment. The yen is still a funding currency and currently levels of risk appetite are high,” Foley said.

Reuters

Japanese Prime Minister Shinzo Abe

Ulrich Leuchtmann, currency strategist at Commerzbank, noted that the latest data from the U.S. Commodity Futures Trading Commission showed 77% of speculative yen futures traders were looking for the currency to extend its drop. Such overwhelming, speculative positions underscore the potential for a sharp reaction to even “marginal” comments, such as those made by Amari, he said.

“The mechanics of the FX market do not allow for a free lunch. […] Anyone relying on medium-term fundamental factors will have to be patient and tenacious,” Leuchtmann wrote in a note to clients.

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